LIC IPO: This Metric Gives LIC A Market Valuation Of Rs 9.5 Lakh Crore
How do you value India’s largest insurer in the absence of data?
The Modi administration’s plans to take state-run Life Insurance Corporation of India Ltd. public could propel the insurer into the league of India’s biggest companies by market valuation.
The government expects to raise about Rs 70,000 crore (nearly $10 billion) by selling part of its holding in the insurer it fully controls, making it the nation’s largest IPO. And it would contribute about a third of the government’s record divestment target for the 2020-21 fiscal.
But the finance ministry hasn’t yet disclosed the amount of stake it plans to sell or the valuation. So how much is LIC worth?
Commonly-used valuation methods using price-to-earnings and price-to-book multiples can’t be used for insurers. That’s because these don’t reflect the correct value of assets for such a company.
The best way to value a life insurance company is by computing embedded value—or the present value of future profits. Market capitalisation is expressed as a multiple of this number when comparing insurers. LIC, however, hasn’t disclosed its embedded value so far.
Based on the present value of 5 percent of the surplus that LIC has to pay its shareholders every year, Macquarie calculated LIC’s embedded value to be in the range of Rs 20,000-25,000 crore. This, the brokerage said, doesn’t include the mark-to-market value of real estate properties, unrealised gains from government securities and equities.
The brokerage said in case LIC were to mark up the net worth to the current value of properties and gains sitting on the investment book, then at best LIC could trade at its embedded value.
LIC has only marginal exposure to non-participating policies like unit-linked plans where policyholders don’t receive dividends. The bulk of its business comprises participating policies that have guaranteed benefits or sum assured along with non-guaranteed benefits such as bonuses and cash dividends.
Currently, 95 percent of the entire surplus earned from participating and non-participating policies is shared with the policyholders and only 5 percent goes to shareholders—in this case, the government. That’s unlike its private sector peers, who only share profits from participating policies in the ratio of 90:10 and the rest is attributable to shareholders.
To extract more value, LIC will have to share a bigger proportion of its surplus with the shareholders. According to Macquarie, LIC will have to split its surplus into three categories: participating book, non-participating book, and shareholders’ fund.
HDFC Life Insurance Company Ltd., which has a higher share of non-participating policies in its business, trades at 5.6 times its embedded value. That’s the highest market capitalisation-to-embedded value ratio among Asian peers. Ping An Insurance, China’s largest private-sector insurer, trades at 1.33 times the embedded value for its life and health insurance business, according to a February report of brokerage CCB International (Holdings) Ltd.
A Rs 9.56 Lakh-Crore Insurance Giant?
Valuation experts BloombergQuint spoke with said the closest metric that can be applied to LIC, in the absence of embedded value, is the ratio of market capitalisation to assets under management.
That needs to factor in a break-up of assets since insurers offer market-linked and non-market linked plans that are valued differently.
- Market-linked plans are valued at net asset value of the investments, just like mutual fund units, and the risk is borne by customers.
- Non-linked plans for which insurers provide upfront premium received from customers towards future liabilities. The premium allocation declines as the term of the plan increases.
Margins on linked plans, also called unit-linked plans, are higher upfront and decline over the years. By contrast, margins on non-linked products such as term insurance increase as a plan ages, contributing to profits in the future.
LIC has the highest dependence on non-linked products among Indian peers at nearly 98 percent. By comparison, the business of HDFC Life and SBI Life Insurance Company Ltd. is equally split between linked and non-linked categories. For ICICI Prudential Life Insurance Company Ltd., linked products contribute nearly three-quarters of its business.
HDFC Life, an insurer with 50:50 split in non-linked and linked businesses, leads the valuation charts among Indian listed life insurers with its market capitalisation at 0.96 times its assets. But it’s not comparable with LIC since HDFC Life enjoys a governance premium and is also privately owned.
The closest insurer to LIC is SBI Life, a quasi-public sector company because of the 58 percent shareholding of State Bank of India. SBI Life trades at a 50 percent discount to HDFC Life.
LIC’s valuations, however, have to be further discounted, two valuation experts told BloombergQuint on the condition of anonymity since valuations are still not out. High dependence on non-linked plans and the tendency of the government to use it as an investor of last resort to either support the market or rescue offers of other state-owned companies.
Also Read: Please Welcome The LIC (IDBI) Bank
The valuation experts suggested that it would be safe to assume a discount of 50 percent to SBI Life for LIC given its product mix and PSU character.
That would give LIC a market cap-to-assets multiple of 0.32 times. Given LIC’s Rs 29.87 lakh crore worth of assets as of September, India’s largest life insurer could be valued at: Rs 9.56 lakh crore.
At these valuations, LIC will be Asia’s second-largest insurance company, after China’s Ping An Insurance Group Co.
IPO Will Take Time
Besides complex valuations, the biggest issue at hand would be corporatisation of LIC’s operations. This would take time. The insurer has its own structure and government has invested an initial capital of Rs 100 crore. The LIC IPO will require an amendment to the Life Insurance Corporation of India Act, 1956, and the approval of Parliament.
According to Macquarie’s note, even for the IPO of SBI Life, a far simpler organisation, it took nine to 12 months to prepare the valuation report and get approvals. So, chances of LIC’s initial offer happening in 2020-21 is very low, the brokerage said.
That would upset the government’s budget math.